OECD raises red flag on U.S. long-term unemployment

People participate in a job fair in New York June 11, 2012.

WASHINGTON (Reuters) - The lengthy spells many Americans are spending without work risk leaving a lasting scar of higher unemployment on the U.S. economy and training programs are needed to avert the damage, the OECD said on Tuesday.

The warning from the Organization for Economic Cooperation and Development comes against the backdrop of stalled U.S. jobs growth and an uptick in the unemployment rate in May.

In a report on the U.S. economy, the Paris-based OECD estimated the unemployment rate which the economy could sustain without generating inflation at 6.1 percent, up from 5.7 percent in 2007. In May, the rate stood at 8.2 percent.

"However, structural unemployment may well already have risen more than this estimate would suggest, and there is a risk that it could increase still further, given the still high levels of long-term unemployment," the OECD said.

Before the 2007-2009 recession, many economists believed the so-called natural or structural rate of unemployment was around 5 percent.

However, millions of Americans have suffered unusually long bouts of unemployment, eroding both their skills and their attachment to the labor force - and potentially driving structural unemployment higher.

The OECD's assessment of structural unemployment is at the high end of the 5.2 percent to 6 percent range that most policymakers at the Federal Reserve estimate.

The estimates are important. The closer the Fed thinks it may be to the natural rate of unemployment, the more hesitant it will be to try to spur faster economic growth.

While the U.S. central bank has slashed overnight lending rates to near zero and pumped about $2.3 trillion into the economy through asset purchases, the unemployment rate has stubbornly held above 8 percent for more than two years, the first time this has happened since the Great Depression.

"We still have a good bit of cyclical unemployment, which is best addressed by supporting aggregate demand," Wendy Dunn, the OECD's economist for the United States, told reporters.

The 34-nation OECD called for the development of programs that would facilitate the return to work for many unemployed individuals and mitigate the risk of long-term unemployment becoming structural.

"Education and training are key to improving skills, (and) reducing mismatches" between employer needs and workforce skills," the OECD said.

It would also help the country to address income inequality, the fourth highest in the OECD, it said.

PERMANENT DAMAGE

Though the median duration of unemployment has eased from the record 25 weeks touched in June 2010, it is still at an uncomfortably high 20.1 weeks.

About 43 percent of the 12.7 million unemployed Americans have been out of work for more than six months.

"The persistence of high unemployment duration is worrisome because the experience of other OECD countries has been that long-term unemployment can become structural or lead to permanent reductions in labor force participation," the OECD said.

The U.S. labor force participation rate - the share of working-age Americans either employed or looking for work - is hovering near 30-year lows, driven down by retiring baby boomers and frustrated job seekers who have given up the hunt.

The OECD also tied the drop in the labor force to easier eligibility requirements for disability benefits. It noted that the share of the working age population between the ages of 20 and 64 enrolled in disability programs rose to 6.6 percent in 2010 from 6.1 percent in 2007.

"Efforts are needed to reduce the reliance on disability benefits because few of the recipients ever return to the workforce," the OECD said.

It also warned that keeping people on unemployment benefits for too long could cause some to not aggressively look for work. The OECD urged that the duration of jobless benefits be pared back gradually towards its pre-recession baseline of 26 weeks.

The duration for state unemployment benefits was raised to 99 weeks to provide a cushion during the recession. It has since been reduced to 73 weeks.

It also recommended providing programs for benefit recipients that connect them to job opportunities, help with job searches and guide individuals towards training and education.

"Relative to other OECD countries, the United States currently spends little on these types of re-employment services, and developing an effective activation system will require significantly more resources," it said.

(Reporting By Lucia Mutikani; Editing by Kenneth Barry)